Recently KCBT July wheat futures traded up to $3.59. That's the highest
that the July contract has been since March of 1998. In each of the
last three years, KCBT July futures have traded below $3.00 at harvest.

At this time, it doesn't seem likely that 2001 will see KCBT July
wheat futures fall below $3.00 for the following reasons:

the reduction in U.S. 2001 winter wheat acres (the smallest area
since 1971);

the tightest world stock/use ratio in over 40 years;

a 5 to 7% reduction in China's winter wheat acres,

4% less soft wheat acres planted in the EU,

a 10% drop in Indian wheat production; and

the drought in Pakistan.

One negative aspect in the outlook for 2001 is that the International
Grain Council's first forecast for world wheat production was 581
million metric tons (mmt), 3 mmt above their latest revised forecast
for the 2000 crop. However, over the last 10 years, world consumption
of wheat has increased by an average of 6 mmt a year (in two years,
consumption increased by over 25 mmt).

Although prices are not expected to fall below $3.00, given "trend"
yields in the major wheat importing and exporting countries, it's
likely that KCBT July futures will decline by harvest. January-February
tends to be the seasonal high in wheat prices and, in many years,
new crop pricing opportunities during this period are significantly
higher than the prices that prevailed at harvest.

One strategy that producers could use to protect against lower prices
(but still leave open the possibility of higher prices) is to purchase
a put option on KCBT July futures now. On January 17, KCBT July futures
closed at $3.495 and a $3.50 put was quoted at $.20. Assuming a harvest
basis of -$.30, a $3.50 put would be the equivalent of expected hedge
price at harvest of $3.00, about $.42 a bushel above the national
average loan rate of $2.58.

A premium of $.20 a bushel might seem too "expensive" to
some producers. Option premiums are determined by several factors
but the two most important are the amount of time until the option
expires (five months), and the "volatility" of the market.
Volatility is a numerical term that reflects the markets assessment
of the risk of futures prices changing from their current values.
The higher the market's assessment of risk,the higher the volatility
and the higher an option's premium.

As of January 17, a $3.50 put option on KCBT July futures was 22.85%
(the volatility of the $3.50 call option was 24.75%) and the "average
volatility of the $3.50 options was 23.71% (see red line in graph
below). That's about the same as last year (see green line in graph
below) but it is above the five-year average for this date. From a
seasonal perspective, KCBT July options' implied volatility tends
to rise into the spring.

The volatility seasonal depicted below is based on the last five
years (1995-1999). During that period of time the volatility averaged
25%. In the previous five-year period (1990-1994) volatility averaged
only 14%. What happened to cause volatility to increase so much in
the last five years? While a variety of factors could be behind the
increase, the principal culprit was the record wheat prices in the
spring of 1996 and the high prices reached the following year (nearly
$5.00). Industry sources suggest that a number of option traders got
burned in those years and the experience has made them "gun shy"
about trading options at low premiums.

Those producers who want to "cheapen" up the cost of purchasing
a put option might want to consider a "fence" or "window"
strategy. This strategy requires the simultaneous purchase of a $3.50
put and the selling (writing) of an out-of-the-money call option.
At present, the imbalance in the implied volatility of puts and calls
is somewhat unusual and could work to a hedger's advantage. As of
January 17, the premium for a $3.50 put (with an implied volatility
of 22.85%) was $.20. At the same time, the premium for a $4.00 call
(with an implied volatility of 27.21%) was $.08.

These opinions do not necessarily
reflect those of GCMG, its members or employees, nor are they to be
considered a recommendation of trading strategy. Their comments are
provided solely for informational purposes and are NOT an endorsement
of trading strategy by the GCMG or its members.